Aligning Investment with Strategy

 Readers of Michael Porter’s Competitive Strategy will recognise the broad spectrum of strategies that organisations adopt to try and fulfil their visions. However, these strategies can be dependent on product, size of the organisation, and whether organisations want to remain a ‘niche player.’

Furthermore, as organisations always need to respond quickly to change, strategy can be said to be ‘emergent,’ and as a result, strategic thinking is a mix of markets, agility, resources, general economies, and board / director capabilities.

With the discussion around VUCA, and the ever changing world, most strategies don’t last long. Then the strategic creep occurs, and a post hoc rationalisation about the success or failure of the strategy.

Change has always happened. But now, with new technologies, the pace of change has increased significantly. Therefore, organisations must respond or die. But how to they respond?

Organisations with investment decisions are faced with uncertain variables when considering returns. Many investment theories such as the time value of money, and trade-off between risk and return, are becoming tested.

For example, the time value of money is being influenced by rapidly changing interest rates and costs of capital. This derives from how organisations use the money they borrow as banks can offer more products with different pricing.

Moreover, many investment decisions are made in response to competitive conditions. This is ‘defensive’ capital expenditure, which involves, for example, keeping up with competitors by investing in thing such a better IT systems. Organisations have to do this to maintain revenue streams.

This leads to investment appraisal, which I believe is a discussion about capacity, where capital rationing is more appropriate than ever when assessing multiple investment choices. With this in mind, it is important to assess the impact of an investment programme on the financial capacity of the business, both in a positive and negative light.

Investment appraisals should also consider whether the investment is an appropriate response to the challenges a firm faces, and whether it will add to the organisation.

I also want to mention organisational sustainability in terms of investment. Many investments fail because events in the external environment effect assumptions and incur unexpected costs.    

External events make predicting cash flow difficult, especially over the longer term, and therefore, investments are becoming more short term. This could drain cash over a long period before any revenues are generated. That being said, investments will always go ahead, despite what the numbers say. This means decisions to invest can be taken even though they fail ‘normal’ financial criteria, simply because not investing may be equivalent to organisational suicide. As a result, judging the success of an investment might just come down to commenting to it.

With this is mind, it is safe to say investment criteria is subjective. So very narrow definitions of shareholder value means that value destruction is more of an avoidance issue than value creation. Managers then become loss and risk averse. Putting this all together, myopic investment then is a warning sign that firms don’t take the future or the larger environmental issues too seriously.

Reward structures as a strategy
Having a clear strategy will determine the commitment of the firm’s resources in terms of capital and their employees. This is linked to the behavioural aspect of investment, which is linked to reward structures.

Reward structures are a way of aligning strategy, shareholder value creation, and operational investments. They can be structured to be focused on areas such as investment appraisal measures, or market performance. However, there is no one size fits all.

The alignment of corporate strategy, investment appraisal, and reward structures is probably the best way forward for an organisation.

There is no such thing as a risk-free investment and managing greater uncertainty in a VUCA world is part of the business of being in business. But investments that gain a competitive advantage will still be desirable because that is the raison d’etre of being in business.

Managers need to implement longer terms plans despite the pressure to deliver in the short term. If they don’t they will manage at a loss, and not survive. Therefore, strategy based investment is key. Making a surplus can only be good for shareholders, and society at large.